Oregon’s Pension Fund Struggles Amid Incentive Payments
In 2022, the value of Oregon’s public pension investment fell by 1.55%, only earning $6.6 billion. This marked its poorest performance since the financial crisis of 2008, worsening an already significant funding shortfall.
Interestingly, this year saw some of the highest earnings yet for the state’s civil servants managing the Oregon Treasury Department’s Pension Fund. They earned the largest incentive payouts in several years, averaging around 29.2% of the target 30% of their base salary.
As a result, Chief Investment Officer Rex Kim received a bonus of $147,187, bringing his total compensation to $663,271. Meanwhile, Michael Langdon, who was the director of Private Market Investment, got $123,105, raising his total salary to $533,459.
Even junior investment directors didn’t miss out; they received incentive payments of $30,681, pushing their salaries to $134,649.
This kind of compensation amid pension losses may seem outlandish to some people. However, Oregon’s incentive structure is based on a complex formula that considers performance over several years, thereby, surprisingly rewarding a poor year as well.
Ali Ranenga, a board member for the Riverdale School District, has expressed concerns about this approach. She pointed out that historic investments by lawmakers in schools have often been redirected towards unfunded pension liabilities resulting from lackluster investment returns.
Ranenga questioned, “What kind of performance do we encourage?” arguing that bonuses should incentivize loss reduction rather than expansion. She insisted these bonuses need to be justified to taxpayers, emphasizing the need to align incentives with public interests.
Officials from Oregon’s Treasury maintain that their compensation system is tailored to attract and retain skilled professionals to manage a $97 billion investment pool and that salaries are adjusted based on performance. They assert that the process is objective, overseen by an internal committee made up of the HR Director, General Counsel, and Vice Treasurer.
However, the existing compensation structure deviates from many large state pension plans. Investigations reveal that the Compensation Committee has employed a specific incentive formula over the last five years.
Notably, the incentive payouts for staff in the Treasury’s investment division are not directly tied to the absolute returns of the fund, which is crucial for taxpayers, workers, and pension sustainability. Payouts also do not rely solely on results from a given year or profits from specific investment strategies.
Instead, the focus is on the pension funds’ overall performance over five years in relation to benchmarks set by the finance department and consultants overseeing investments. This approach historically ranked Oregon against similar large pension plans, but it has been adjusted this year.
The substantial payouts in 2022 came despite losses for the pension fund. They only lost less than what was indicated by various benchmarks. The stock market’s downturn didn’t impact Oregon’s pension investments as negatively as anticipated, primarily due to its focus on alternative investments like private equity and real estate, which can be volatile.
Moreover, qualitative measures such as teamwork and integrity significantly factor into the incentive compensation, scoring impressively high over the last few years, even amid mediocre fund performance.
While the Treasury aims for its incentive payments to cover about 30% of base salaries each year by deducting points when performing below benchmarks, it has not always hit the mark. In 2021, for instance, if the pension fund underperformed, incentive payments were dramatically cut. The same pattern emerged last year.
This raises questions about whether the benchmarks are indeed suitable for measuring performance. The selection of benchmarks seems subjective, a point of contention in investment dialogues.
Richard Ennis, a long-standing consultant for institutional investors, criticized Oregon’s benchmarks as “particularly slow,” revealing that they generally indicate returns lower than actual performance metrics.
Despite this, Treasury spokesperson Eric Engelson emphasized their commitment to transparency, arguing that the agency provides clear reports of performance data alongside benchmarks for each asset category. He noted that Oregon’s ten-year annual return rate stood at 7.6%, exceeding internal benchmarks and long-term assumptions.
However, the way they approach incentive compensation diverges from practices seen in other large state pension funds. A national survey found that 71% of state plans with assets exceeding $60 billion offer bonuses for staff performance.
Similarly, a 2022 survey indicated that up to half of Chief Investment Officers overseeing statewide systems are bound by some sort of performance-based pay.
Keith Brainard, research director for the National Association of State Retirement Managers, noted that this implies that if a Chief Investment Officer has performance incentives, it’s reasonable to expect that the same goes for their teams.
Variations exist in compensation for state investment officials across states. Nevada, for instance, adopts a low-cost strategy focusing on publicly traded stocks, leading to an impressive return on investment, but it employs only two investment staff with no additional incentive pay.
In contrast, California and Virginia, like Oregon, actively pursue returns above the broader market. California’s pension compensation plan now emphasizes incentive salaries anywhere between 10% and 150% of base pay, depending on seniority.
The structure includes both short-term and long-term elements based on fund returns and overall revenue assumptions. Virginia follows suit by providing incentive payments based on gross pension fund performance and individual responsibility.
On the other hand, Washington State does not provide annual incentive payouts, capping compensation to maintain alignment with similar-sized peer pension funds.
Amid these discussions, Briinard points out that the debate surrounding state investment officials’ compensation often overshadows a pressing issue: retention. Maintaining continuity is crucial for performance, yet many employees are lured away to the private sector.
He added that while these salaries might seem excessive, their actual impact on fund performance is not as straightforward as it might appear. In fact, some studies suggest that higher salaries for chief investment officers correlate with better investment results.
Kevin Malary, a finance professor, supported this view, indicating that their research highlighted superior performance in areas like private equity among higher-paid officials. Even if direct links between performance and incentive compensation remain unclear, having salaries tied to performance metrics makes them more palatable politically.
According to Malary, the competition for top talent in investment management is fierce. While a $600,000 salary might raise eyebrows, it seems more acceptable when it’s partially performance-driven.
